Do SIPs Really Work?
After starting on a good note this year, the markets have had a roller-coaster ride over the past six months. Markets touched all-time highs in the month of January and then frontline indices corrected by more than 10%, while the broader market indices corrected 15-20% and individual portfolios dipped even more. Although the markets are again trading at all-time highs, the high level of volatility has spooked the investors.
Many of the investors who invested in mutual funds during this time either through systematic investment plan (SIP) or lump sum are witnessing a decline in the value of their investments especially with mid-cap and small-cap dedicated funds.
With such bad experience for an investor, the most debated topic between investors and advisers is: What to do with the SIPs? The key reason behind this is that the recent returns from the SIPs, are negative in most of the cases other than large cap dedicated funds. 
Most often it is said that investing in mutual fund through a SIP mode is the best way to let your investment grow. It is also widely believed that if one enters the market through SIPs, then he does not need to time the market and also does not need to put special efforts for rupee cost averaging to minimise the investment risk. This is the reason why, despite the fall in the inflows in equity dedicated funds, investments through SIP continued to gain traction. In the first four month of FY19, investment in equities have seen a continuous fall in inflows while investment through SIP continues to grow.
Analysing SIPs in different conditions
Nevertheless, the recent performance of investments through SIP has put a question mark on SIPs as an all-weather investment strategy. Therefore, to understand if it is worth investing in mutual funds through SIP, we analysed the performance of the strategy under different conditions. But before that, let us understand the basics of SIP. SIP investment can be made monthly or quarterly in the particular mutual fund scheme. Currently, investment through SIP mode has become a preferred route of investment as it is akin to the recurring deposit where an investor invests small amounts in a systematic manner.
Currently, the entire mutual fund industry is promoting investment through SIP and even investors are keen to invest through this mode due to the various benefits it offers. One of the major benefits which has been highlighted by the experts is rupee cost averaging. This is supposed to be the most important benefit of the SIPs as the SIP helps an investor by its systematic investment method. So, when the market is low, the investors automatically get more units of the scheme and when the markets are high, investors get less number of units. The traditional wisdom of investment also suggests buying at lows and selling at highs. Besides, SIPs assure regularity of investment.
Till now, many investors think that SIPs can generate higher returns and offer higher benefits of compounding. To check if this holds true every time, we have analysed the top performing funds in last 10 year from the equity large-cap, mid-cap and small-cap categories. We analysed the SIP returns of these schemes in different market conditions over the past 8 years since 2010. These market conditions were broadly categorised into three types. The bull market when the Sensex gained, the bear market when the Sensex saw a fall and, lastly, the range-bound market when there was not much movement in the Sensex.
While analysing the SIP returns, we have considered the XIRR as a tool to analyse the performance. Moreover, to simplify the analysis, we have considered similar exit points and varied entry points of the SIPs. That is, we have analysed the performance on the assumption that an investor starts investing in various months during the period of study, however, he exits or sells the investment at the end of the study period. For instance, the year 2013-14 has been considered as positive or a bull market, where we have assumed the SIP will end on Dec-2014, while an investor can start investing anywhere between January 2013 to December 2014.
As mentioned, we have considered three major market trends of 2010-2011 (range-bound market), 2013-2014 (rising market) and 2018 (falling market). With these, we have analysed the SIP returns of the funds that remained top performers among the large-cap, mid-cap and small-cap categories in the last ten years. We have selected UTI-Transportation and Logistics Fund, HDFC Mid Cap Opportunities Fund and DSP BlackRock Small Companies Fund which were top performers in their respective categories.
As per our data analysis, during the period 2010-11 when the market was range-bound, SIPs in all these categories failed to perform. Not a single fund out of these three funds gave positive return during this phase. The SIP returns for the investors remained negative in all cases.
How to read the graph The bar graph
shows the XIRR (%) of different funds while line shows the movement of Sensex during the period. Different month in horizontal axis shows when the SIP was started. All the SIP ends in the last month of the figure. For example, bar chart of January shows the XIRR of different funds under the assumption that SIP was started in the month of January till November last. Similarly, bar chart of March shows that the SIP was started in the month of March and continued till November.
Here we have considered that the investor has invested through SIP a sum of Rs .10,000 each month on the very first day of the month and investments are assumed to be on the NAV prevailing at that time. Further, we have analysed various entry points of the investor. For instance, if an investor started his investment in January-2018, then till August-2018, he has invested 8 SIP and his total investment is Rs. 80,000 in the scheme. Likewise, we have varied the entry points and considered the exit point similar. While considering exit point, we have taken into account NAV of the last day of the month and in the case of the year 2018, we have considered the latest value as an exit point (August 2).
On the other hand, in the year of 2013-14 when the markets were rising, the SIPs offered skyrocketing returns in these funds. The significant observation in the rising market was that the large-cap funds performed better than the mid-cap and small-cap funds if someone would have invested earlier. Usually, the small-cap and mid-cap funds generate more returns in bull market. From the above, it is clear that in a rising market, SIP’s do perform well and could offer returns that re higher than the market.
Coming to the current market scenario, if we see the period from Jan 2018 onward till now, the markets have been falling this couple of months ago and hence almost nullified the returns of the investors, it had earned earlier in the year 2017. That is, the SIP returns which have been earned by investor till Jan 2018 are now around 0% due to the market correction.
From the analysis above, it is proven that SIPs are not beneficial in all market conditions, irrespective of the category. If we look at the markets in 2010-2011, which can be considered as range-bound, the returns from SIPs are different. At the same time, in the year 2013-14 when the market was rising sharply, the SIPs rewarded investors. So, to explain this analysis in a simpler way, let us just see the conditions where the SIPs performed well and the conditions where the SIPs performed badly. 
Situations when SIPs can be beneficial
Rising markets/bull markets:
According to our data analysis, SIPs can earn positive returns in bull markets. The basic reason behind this is that when the markets are in bullish mode, every subsequent investment of the investor is made at a higher cost than the previous one. This helps the investor to average the investment at a higher value. Even with the volatility in this bull market, the SIPs perform better with rupee cost averaging.
When markets are within a range (upward movement post correction):
This is a situation when that the market witnesses corrections and then moves upward. In this case also, the SIP seems to be performing well. In this case, SIP can perform well as the correction helps investors to average investment at lower cost, whereas the upward movement rewards the investors who keep buying through SIP during correction. The conditions described above are the conditions where the SIPs have the edge to earn returns. However, one should remember that SIPs will not perform in all conditions. Let’s see the situations when the SIPs can fail.
Situations where SIPs could not perform Falling or bear market:
The first case where the SIPs fail in performing is the bear market. When markets are falling, every new investment made by the investor is made at the lower price, which is further lowered next week or next month. In this market, the SIP can perform better than the lump sum as the benefit of averaging minimises the downward risk as compared to the lump sum investment. But the investor may not get positive returns as he still loses money due to decline in prices. We believe every investor should look to minimise the loss.
Sideways market:
The sideways market is a market where it does not rally too much nor correct too much. It remains range-bound for a period. In this situation, the SIPs cannot perform better. The final value of the investment remains closer to the average cost. This can be seen during the period 2017- 2018, where an investor who invested money in January 2017 has reaped good return up to December 2017. After that, almost the entire return earned in CY2017 has been wiped out by the markets in the last six months from February 2018 up till now. One more case we can take into consideration would be the median range of the market, where the market moves upwards and then moves down. The subsequent correction may hurt the investors with lowered SIP returns.
Conclusion
In all the above cases, the entry point and exit point play an important role. The investors who can time the market and enter and exit at the perfect time may see results that are different from those discussed above. The myth which is being propagated that the SIP can protect in a falling market becomes meaningless after analysing the performance. SIP is a tool to spread an investment into multiple tranches and not a tool to minimise risk. It also helps you to maintain investment discipline, which many investors lack. Yes, in some of the cases definitely, SIP protects investors from the market risks, but predicting the market trends and determining the market condition are the trump cards of generating good returns even in the case of SIP’s. Therefore, we can say that SIP is not the best way to invest in mutual funds. It is all about the risk appetite of the investor, which determines the choices an investor makes in terms of the way he invests, weather it is SIP, lumpsum, value averaging etc. As SIP inculcates the habit of regular saving and investment, it can be considered as a good aspect of investment management. But when it comes to returns, SIPs will not perform better than lump sum investment every time. So, one should understand one's needs properly and then take a call on the SIP to optimise the returns
D. P. Singh
ED & CMO, SBI Mutual Fund
With the rising inflows through SIPs, what is your outlook for this investment mode in the Indian mutual fund industry?
SIPs will, in my view, keep growing gradually and are here to stay. More and more investors are likely to use this facility because of the many benefits it offers. There is almost a complete unanimity across the adviser fraternity that SIPs are the most efficient way for long term wealth creation.
In your opinion how does SIP help investors in mutual fund investment?
Rupee cost averaging and power of compounding are two key factors that make SIP a prudent investment option for all types of investors. Rupee cost averaging manages the market volatility for investors as their investments would get averaged out during rising and falling markets. Power of compounding simply means the returns you generate on your investment also earn returns over the tenure of investment. Moreover, the habit of SIP brings a discipline in saving and investment, which is crucial for achieving financial goals.
Does SIP generate more returns than other investment avenues (lump sum, value averaging, etc)?
SIP investments are market-driven and if there is a downward bias in the market, the SIP investments will also get affected likewise.
The negative returns from SIPs have spooked investors. So what is your advice for novice investors and what kind of return expectation should they have in the current market conditions?
Investors must keep in mind that any investment has to be made for the longer term, say, a minimum 5 years. There can always be negative returns in line with market movements, but rupee cost averaging will always make it possible to convert negative returns into positive returns over a period of time.
Can we use SIPs to time the market?
Timing the market with SIP is against the basic premise of the SIP concept. SIP is a solution to fight against the temptation of timing the market, which augurs well for long term goal planning.